Inflation Calculator

Understanding Inflation and Its Impact on Your Money

Inflation is the gradual increase in the general price level of goods and services over time. When inflation rises, each dollar you hold buys slightly less than it did before. This steady erosion of purchasing power is one of the most important forces to understand in personal finance, because it affects every aspect of your financial life, from savings and investments to wages and retirement planning.

What Causes Inflation?

Inflation can be driven by several factors. Demand-pull inflation occurs when consumer demand outpaces the supply of goods and services, pushing prices higher. Cost-push inflation happens when the costs of production increase (higher wages, raw material costs, energy prices), and businesses pass those costs on to consumers. Monetary inflation results from an increase in the money supply; when more money chases the same amount of goods, prices rise.

How Inflation Is Measured: CPI

In the United States, inflation is primarily measured by the Consumer Price Index (CPI), published monthly by the Bureau of Labor Statistics (BLS). The CPI tracks the average change in prices paid by urban consumers for a basket of goods and services including food, housing, transportation, medical care, and education. The Federal Reserve also monitors the Personal Consumption Expenditures (PCE) price index, which it considers a more comprehensive measure of inflation.

Historical US Inflation Rates

Over the past century, US inflation has averaged approximately 3% per year, though it has varied significantly by decade. The 1970s and early 1980s saw double-digit inflation rates, peaking at over 14% in 1980. In contrast, the 2010s experienced historically low inflation averaging around 1.8%. The post-COVID period of 2021-2023 saw inflation surge to 9.1% before gradually declining. Understanding these historical patterns helps you make more realistic long-term financial projections.

How Inflation Affects Your Savings

If your savings account earns 1% interest but inflation is 3%, you are effectively losing 2% of your purchasing power each year. This is why financial advisors distinguish between nominal returns (the stated return on your investment) and real returns (the return after subtracting inflation). An investment that returns 7% nominally during 3% inflation delivers only about 4% in real terms.

Over long periods, this difference is dramatic. At 3% annual inflation, the purchasing power of $100,000 is cut roughly in half in just 24 years. After 40 years, that $100,000 buys only about $30,600 worth of today's goods.

Protecting Against Inflation

• TIPS bonds: Treasury Inflation-Protected Securities (TIPS) are US government bonds whose principal value adjusts with inflation, providing a guaranteed real return.
• Equities: Historically, stocks have outpaced inflation over long time horizons, with real returns averaging 7% annually for the S&P 500.
• Real estate: Property values and rents generally rise with inflation, making real estate a natural inflation hedge.
• I Bonds: US Series I savings bonds offer interest rates that adjust semiannually based on the CPI, protecting your principal from inflation.
• Commodities: Gold, oil, and other commodities often rise during inflationary periods, though they can be volatile.

Real vs. Nominal Returns

When evaluating any investment, always consider the real (inflation-adjusted) return. A bond yielding 5% sounds attractive until you realize inflation is 4%, leaving you with only 1% real return. The approximate real return can be calculated as: Real Return = Nominal Return - Inflation Rate. For more precise calculations, use the Fisher equation: (1 + real) = (1 + nominal) / (1 + inflation).